mitigating political risk in international projects - mcmillan · mitigating political risk in...

Robert WisnerMcMILLAN BINCH MENDELSOHN LLProbert.wisner@mcmbm.com

Mitigating Political Risk

In International Projects

PDAC 2007 – International Reactions to Mining Projects

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Overview• What is political risk?

• Three legal strategies:Political risk insuranceHost government contractsBilateral investment treaties and free trade agreements

• Investment planning for political risk mitigation

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What is political risk?Government Risks Instability Risks

Firm-Specific Risks • Discriminatory regulations • "Creeping" expropriation • Breach of contract

• Sabotage • Kidnappings • Firm-specific boycotts

Country-Level Risks • Mass nationalizations • Regulatory changes • Currency inconvertibility

• Mass labor strikes • Urban rioting • Civil wars

Source: Robert Egge

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Political Risk Insurance• Standard Coverage:

ExpropriationBreach of host government contracts and sovereign debt defaultPolitical violenceCurrency transfer and convertibility risk

• Providers:Government agencies (EDC, OPIC, etc.)World Bank (MIGA)Private insurers (Zurich, AIG, etc.)

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PRI at Work – Sector Resources and OPIC• Sector Resources owned Las Animas mine

in Colombia

• Guerrilla threats shut down mine

• OPIC determined that compensation payable for lost business income and equipment lease defaults

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PRI – Pros and Cons• Pros:

Good coverage for political violenceClaims are made against insurer instead of governmentStraightforward claims more likely to be settled without arbitration

• Cons:No coverage for many common political risks (e.g. discrimination, protectionism, unfair treatment)Coverage limited to new projectsLosses may exceed policy limitsExpensive

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Host Government Contracts• Arbitration and stabilization of HGCs

(concessions, licenses, production sharing agreements, etc.)

• International arbitration provides neutral forum, but choice of place of arbitration and institution is critical

• Stabilization clauses or legal stability agreements (LSAs) can freeze existing regulatory or tax regimes

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Stabilization and Arbitration at Work –Libyan Oil Concessions

• Libya nationalized oil concessions

• Contracts had stabilization and arbitration clauses

• Arbitral awards obtained and enforced:BP v. Libyan Arab RepublicTOPCO v. Libyan Arab RepublicLIAMCO v. Libyan Arab Republic

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HGCs – Pros and Cons• Pros:

All contract claims covered in arbitrationMay specify with precision the tax or regulatory changes that breach LSA

• Cons:Need to negotiate with host government at the outsetContracting Ministry may not be able to bind other branches/levels of governmentLSAs may be deemed subordinate to later host state lawsMany political risks not covered (e.g. instability, transfer restrictions)

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Bilateral Investment Treaties andFree Trade Agreements• Bilateral Investment Treaties (BITs) contain

protections for foreign investors from a wide range of host government actions

• Foreign investors are granted a direct right of international arbitration against the host government for breach of BIT obligations

• Similar provisions in regional and sectoral free trade agreement (FTAs) such as NAFTA, Energy Charter Treaty

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Spread of BITs

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Rise of BIT Arbitrations

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BIT / FTA – Scope of Coverage

• Standard coverage includes:All existing investments as well as future investmentsExpropriation, including regulatory takingsNon-discrimination (“national and most-favored-nation treatment”)Fairness and legitimate expectations (“fair & equitable treatment”)Due diligence in law enforcement and other services (“full protection & security”)Transfers restrictions

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BIT / FTA – Scope of Coverage II

• Treaties differ for:Host government contract breaches (“umbrella clauses”)Performance requirementsSectoral and policy reservations or exceptionsPre-establishment protections

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BITs at Work – Expropriation

• Goetz v. Burundi (Belgium – Burundi BIT)

• Goetz, a Belgium national, owned AFFIMET

• AFFIMET owned silver mine in Burundi

• Burundi revoked AFFIMET’s Tax Free License

• Tribunal found revocation “tantamount to expropriation”

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FTAs at Work – National Treatment• S.D. Myers v. Canada (NAFTA Chapter 11)

• S.D. Myers established PCB Waste Remediation firm in Canada, but needed to transport waste to U.S. for incineration

• Competitor lobbied Canada to close the border to PCB Waste Exports

• Minister orders border closed without legitimate environmental concerns

• Tribunal found no expropriation, but national treatment violated

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BITs at Work – Fair & Equitable Treatment• Tecmed v. Mexico (Spain – Mexico BIT)

• Tecmed operated landfill with renewable license

• Political opposition led to refusal to renew license

• Tribunal held that Tecmed had a “legitimate expectation” that license would be renewed unless there was evidence of environmental harm

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FTAs – Pros and Cons• Pros:

Binding on all levels of governmentGoverned by international law, later changes in domestic law are no excuseCover all existing investments free of chargeNo need for privity of contract, most provisions supercede contractual forum selection clausesBroad coverage for most political risk

• Cons:Need to satisfy nationality requirements of ratified treatiesDifferences in scope of coverage, reservations and exceptions

• Solution:Investment planning to meet nationality requirements of most favorable treaties

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Investment Planning I –Choosing Your Nationality• Most BITs / FTAs define corporate nationality by

place of incorporation

• Subject to exceptions, holding companies are entitled to protections of the treaty, e.g. ADC Affiliate v. Hungary (Cyprus – Hungary BIT)

• Canadian investors built airport in Hungary, using Cypriot holding company

• Holding company paid taxes in Cyprus , maintained separate books

• Tribunal held that Claimant company was Cypriot, despite Canadian management and control

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Investment Planning II –Don’t wait until after a claim has arisen• Banro Resources v. Congo (ICSID)

• Banro, a Canadian company, barred from enforcing an ICSID arbitration clause – Canada not a party to ICSID

• Assigned claim to an American Banro affiliate –US is a party to ICSID

• Claim dismissed for lack of proper nationality

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Investment Planning III –Finding the Best Treaty• Occidental v. Ecuador – US$75 million award• Encana v. Ecuador – case dismissed• Ecuador denied VAT refunds for foreign oil

companies, arising out of PSCs• Oxy and Encana brought identical claims

under US-Ecuador, Canada-Ecuador BITs, respectively

• Both tribunals agreed tax was not an expropriation

• Only Oxy was entitled to claim tax was discriminatory and unfair

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Investment Planning IV –Small Differences Matter

• U.S. – Ecuador BIT• Article X• 1. With respect to its tax policies, each Party should strive to

accord fairness and equity in the treatment of investments of nationals and companies of the other Party.

• 2. Nevertheless, the Provisions of this Treaty, …, shall apply to matter of taxation only with respect to the following:

• (a) expropriation …• (b) transfers…• (c) the observance and enforcement of terms of an

investment agreement or authorization as referred to in Article VI(1)(a) or (b)• Canada – Ecuador BIT• Article XI• 1. Except as set out in this Article, nothing in this Agreement shall

apply to taxation measures…• 3. … a claim that a tax measure of a Contracting Party is in breach

of an agreement in between the central government authorities and the investor concerning an investment shall be considered a claim for breach of this Agreement

• 4. Article VIII [expropriation] may be applied to a taxation measure…

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Conclusion

• Always consider BIT / FTA coverage when planning your project

• Where possible, consider arbitration/stabilization in HGCs

• Where necessary, consider additional coverage through PRI